Skip navigation
hand investing commercial real estate claudenakagawa/iStock/Getty Images

Are Private Equity Investors Ready to Step Off the Sidelines?

Capital will be highly selective, which may create winners and losers among private equity fund managers who are able to capture dollars.

Despite holding record levels of dry powder, private equity real estate fund managers are hoping to see investors move off the sidelines so they can recapture fundraising momentum.

The first half of 2020 was a painfully slow year for capital raising for global real estate funds. After reaching a peak of $83 billion in 2019, capital flows have thinned to $23 billion due to the negative effects of the COVID-19 pandemic. Although there are definite signs that investors are returning, it’s likely that fundraising will remain subdued in the second half of the year. In addition, capital will be highly selective, which may create winners and losers among managers who are able to capture those dollars.

“There is appetite for real estate investments, and institutions want to put capital out over the next two years,” says Douglas M. Weill, founder and co-managing partner of Hodes Weill & Associates, a global capital advisory firm focused on real estate investments and fund management. “So, while we expect the pace of fundraisings to pick up in the second half of the year, we don’t expect it to be a very robust market,” he says.

Early on in the pandemic, private equity investors took a pause to evaluate portfolios and positions in light of the economic downturn. Now investors seem ready to get back to work on allocations and continuing on executions that they may have been on hold. “In general, there has been a gradual shift in the last several weeks compared to the early days of COVID when the vast majority of investors were on defense to a more significant percentage shifting to offense and restarting investment activity,” says Bernie McNamara, global head of Investor Solutions for CBRE Global Investors.

Those investors that are resuming an offensive strategy fall into two different camps, adds McNamara. There are steady, strategic investors who believe COVID-19 is not going to disappear in the immediate future, but they don’t think a temporary disruption should impact long-term strategic investment plans. The second category are focusing on a “two-minute offense strategy,” meaning they are actively seeking to take advantage of opportunities that have resulted or been accelerated by the downturn, says McNamara.

Capital remains hungry for yield

Heading into the pandemic, U.S. fund managers had record high levels of dry powder available—$147 billion as of December 2019, according to Preqin. There are different views on how strategies have shifted and where existing and new capital is now flowing, but investors are keenly invested in opportunistic strategies and distressed assets.

For example, Virtua Partners has seen a mix of investor preferences across its platform. The global private equity firm works primarily with ultra-high net worth investors. “Some investors are going more towards pure distress, because that’s where they see the bigger returns,” says Quinn Palomino, CEO and co-founder of Virtua Partners, a global private equity firm that works primarily with a base of ultra-high net worth investors. At the same time, other investors are following a flight to quality, adds Palomino. She describes investor interest in the firm’s multifamily investments as “red hot” due to the underlying demand for housing.

Virtua Partners launched its Virtua Distressed Hospitality Fund I shortly after the outbreak of the pandemic in the U.S. So far, the firm has been patient with its capital and disciplined with its underwriting. But like many, Palomino is watching stress emerge among hotels in hard hit destination travel markets. At the same time, she also sees plenty of competition lining up from other private equity firms, such as Blackstone and KKR, as well as demand from sovereign wealth funds. There is still a big delta between the bid and ask prices, but that gap is continuing to close as reality is setting in on owners and operators, she notes.

“I think the money is leaning towards high returns and distress,” agrees Weill. The prevailing view is that distress is going to set in. So, they are looking for managers that have experience investing in down markets. At the other end of the spectrum, core and core plus strategies are seeing less interest. “We’re seeing redemptions out of the open end core funds, which is a good indicator of sentiment,” he says. “What we think is happening is that institutions are reallocating their capital from low return to high return strategies at the moment.”

The low yield environment could serve to pull more capital out of fixed income assets and into commercial real estate. “The bridge between those could be real estate credit—particularly higher quality, lower volatility, lower LTV, generally stable income-oriented types of real estate credit—as the substitute for traditional fixed income that provides a higher yield,” notes McNamara. Investors also are exhibiting greater interest in “new economy” real estate that have a bit of crossover into infrastructure, such as data centers, cell towers and cold storage facilities that are critical to food supply chains, he adds.

Big players continue to dominate

Even before COVID-19, capital was flowing to the large private equity real estate funds, such as Blackstone, Brookfield Asset Management and Starwood Capital Group. COVID-19 has further magnified that trend, at least in the near term. “The larger cap name brand firms are having reasonably good success raising capital. It is the middle market and boutiques where it has been slower on the fundraising trail,” says Weill.  For example, the Rockpoint Group closed on its Real Estate Fund VI in June, securing $3.8 billion in capital commitments for the fund’s opportunistic strategy.

The biggest challenge for institutional investors is their need, or in some cases requirement, to meet the manager and spend time in their offices, build personal relationships and tour properties. Those in-person meetings and tours are constrained due to COVID-19, especially for those cross-border investors. “We think that is going to change as institutions clearly have a need to allocate capital to real estate. Some institutions are starting to figure out how they can do some of their underwriting remotely, including using consultants to do more of the work that they otherwise might have done directly,” says Weill.

Capital is not just gravitating to big name players, but rather what’s behind the names in terms of a breadth of different strategies. Part of that is driven by the need to consolidate relationships and create efficiencies with a one-stop shop option.

Many investors are turning to managers in search of a global perspective, one that is balanced across regions, categories, sectors, sub-sectors, different risk profiles and execution formats—public, private, equity or credit, notes McNamara. “COVID has been so widespread that I think the larger platforms that can be true strategic partners, not just in the delivery of investment opportunities, but also providing thoughtful insight, research and data from on the ground,” he says. 

The current fundraising environment is challenging for some of the smaller fund managers. Although that appetite is likely to come back over time, in the interim, some may look to joint venture with larger managers to help stretch their capital. In addition, there may be some renewed M&A and consolidation activity over the coming year. There had been quite a bit of M&A activity among fund managers in 2017 and 2018 that dropped off a bit in 2019. “We’re seeing signs of a real pick-up, especially as smaller firms realize they may be better housed under a larger platform,” says Weill.

TAGS: News
Hide comments


  • Allowed HTML tags: <em> <strong> <blockquote> <br> <p>

Plain text

  • No HTML tags allowed.
  • Web page addresses and e-mail addresses turn into links automatically.
  • Lines and paragraphs break automatically.